Was Letting China Into the WTO a Mistake?

As President Donald Trump’s recent $60 billion-a-year trade tariffs against China have made abundantly clear, there has been growing discontent in the United States with Beijing’s failure to conform to liberal economic and democratic norms. The dismay over Chinese protectionism, and its negative impact on developed economies, has emanated not just from the White House, but from voters as well as from diplomatic, commercial, and academic quarters. The chorus of outrage has even raised doubts over whether the West should have ever admitted China to the World Trade Organization, whose rules-based system seemingly enabled Beijing to prosper even as it engaged in questionable behavior. Was letting China into the WTO a strategic mistake?

In a report released earlier this year, the U.S. Trade Representative argued rather provocatively that the United States had indeed “erred in supporting China’s entry into the WTO on terms that have proven to be ineffective in securing China’s embrace of an open, market-oriented trade regime.” But did it? It would be poor decision making to reject a policy solely on the basis of the unfortunate outcomes that followed. Such an approach fails to address whether there were any superior alternatives at the time when such a policy was made. In the case of China’s accession to the WTO in 2001, the reality is that identifying a preferable alternative, even with the benefit of hindsight, is surpassingly difficult.

BACK TO THE DRAWING TABLE

To reconsider the merits of supporting China’s WTO membership, we must set the scene. During the 15 years of negotiations leading up to 2001, the United States and other countries set several conditions for China’s admission, including an extensive series of liberalization commitments. These involved concessions such as dropping tariffs on many categories of goods, opening up agricultural trade, and allowing in foreign service providers. In contrast, the United States did not need to make any new market-opening concessions; it just needed to guarantee that it would offer China most-favored-nation status (MFN)—basically, the same levels of tariffs that the United States had been offering Beijing since 1980. Before China joined the WTO, the United States essentially provided Beijing MFN treatment through its regular waiver of the 1974 Jackson–Vanik amendment, a law intended to restrict the trade benefits the United States offered to Communist nations. Thus, when China joined the WTO, the United States Congress voted to discontinue the regular review and made permanent the privileges it had bestowed upon Beijing over the previous 20 years.

What, then, were the policy alternatives at the time?

One option would have been to refuse China permanent MFN status, while maintaining existing trade policy. In 2000, granting China permanent MFN was highly controversial for the U.S. Congress because of objections to Chinese human rights practices. Arguing in favor, ex ante, President Bill Clinton said, “Congress will not be voting on whether China will join the WTO. Congress can only decide whether the United States will share in the economic benefits of China joining the WTO.” Indeed, had the United States not supported Chinese entry, it would not have received the benefits of the Chinese opening. China could have maintained all its high trade barriers against the United States while dropping them against other countries. The United States would have had the “grandfather” ability to apply higher non-MFN tariffs on China, but it had already decided against doing so in the previous two decades.

A policy of denying MFN would thus have been clearly inferior, as it would have forsaken the benefits of Chinese membership while having retained all the costs that accompanied low barriers toward Chinese goods. Further, this move would have divided the international community on China, given most OECD countries supported its accession at the time. This split would have dramatically weakened the WTO in its early stages, thus undermining a major U.S. foreign policy goal to strengthen the global trading system.

Had the United States chosen to reverse its longstanding openness to Chinese goods, a tougher policy would have been to forsake MFN treatment and to raise barriers against imports from China. This could have been accomplished in a number of ways, but they all look highly problematic.

At the simplest level, the United States could have just raised tariffs on finished Chinese products. However, this would have not only hurt U.S. consumers and businesses that benefited from those imports, but would have also been interpreted as an act of enmity by Beijing. And on top of this, it would likely have been ineffective in stopping China’s rise. As China drove down the prices of toys and t-shirts in other global markets, it would have been very difficult for the United States to insulate itself from the effects. Further, China has ultimately emerged as a major global economic player by tapping into global value chains. Since China is the last stage in the chain, a finished product can appear to have come from China, even if Chinese value-added is relatively small. Since U.S. tariffs are applied based on where a good is finished, not based on value-added, China could have easily affected U.S. markets by performing earlier-stage tasks and then having the goods finished in Malaysia or some other neighboring country. This is the problem with conducting bilateral policy in a multilateral world. In sum, this second alternative is no better than the first, and decidedly worse than the current policy.

As a final alternative, the United States could have shored up the “leaks” in its China containment strategy and sought to rally other countries to exclude China from the global economy, thereby preventing its rise. This might have addressed some of the concerns of the second alternative, but it appears dangerous, implausible, and infeasible: dangerous because trying to isolate China with the open intent of blocking Chinese growth would likely have elicited a hostile response; implausible because the United States was, in late 2001, trying to rally the world to respond to terrorism emerging from the Middle East; and infeasible because the United States has had a difficult time trying to isolate countries with much smaller economies, such as Iran and North Korea. Trying to isolate China would have been orders of magnitude more difficult.

China continues to pose economic policy challenges, but there is no indication these would be any easier to resolve were China unbound by WTO rules.

WHAT WAS CHINA’S IMPACT?

In the absence of any superior policy, the admission of China into the WTO does not appear to have been a mistake. Nonetheless, it may be worth examining several of the consequences that have prompted such concerns today.

Before getting to the concerns, it is worth noting that, in the wake of China’s WTO accession, U.S. GDP per person, adjusted for inflation, grew from $44,400 in the fourth quarter of 2001 to $52,800 in the fourth quarter of 2017, an increase of roughly 19 percent. Over the same period, inflation-adjusted manufacturing sector output in the United States rose by more than 15 percent.

U.S. critics of trade with China, however, are most likely to focus on its impact on manufacturing employment. One useful measure to assess this is the share of manufacturing employment in total U.S. nonfarm payrolls, which is the primary indicator used to assess U.S. job creation. This did fall sharply in the wake of China’s WTO accession, from 12 percent in December 2001 to 8.5 percent in December 2017, a drop of just over 29 percent. Yet that decline actually represents a slowing of a preexisting trend. If we take the 16 years before China’s accession, the share of labor in U.S. manufacturing fell by more than 33 percent, from a level of 17.9 percent in 1985. One might argue that China was at least starting to engage with the global trading system over that time, if not yet in the WTO, so perhaps it played some role in the decrease in manufacturing jobs. But looking at the preceding 16-year period, we can see the same trend in the United States: a 31 percent drop from an initial labor share of 25.9 percent in 1969. That occurred during a period in which China was largely isolated from the global economy and it therefore cannot be held responsible.

The challenge, of course, is to try to isolate China’s impact from the broader trends. The ideal way to do this would be to compare China’s track record as a WTO member to an estimated outcome under an alternative scenario—but as we see, of the three possible alternatives outlined above, none of them would have provided better outcomes. There is simply no plausible counterfactual. This is a problem that plagues much of the academic literature that has developed around the “China trade shock,” a theory that claims China’s rise negatively impacted workers and manufacturing in developed nations. But not only does this line of thinking fail to test against a policy alternative, it fails to model a world in which other low-cost suppliers would have emerged to challenge Chinese dominance in labor-intensive manufacturing.

Rather than focusing on the economic impact, one might consider the constraints that Chinese WTO membership has put on the United States. Specifically, the inability to impose tariffs and the requirement to pursue disputes under the WTO.

In fact, in the 15 years following China’s accession, the United States enjoyed broad freedom to apply tariffs on imports from China. As part of China’s accession, the United States had the right to apply a special China safeguard if imports from China were found to be disrupting U.S. markets. (This is known as Sec. 421.) There were a total of seven such cases filed under this provision. Five made it past the U.S. International Trade Commission but only one resulted in U.S. tariffs—specifically, against Chinese tires. The case of the tire tariffs, in retrospect, looks to have been a policy failure, however, because the United States mostly resorted to importing tires from other countries at somewhat higher prices. The evidence is thus clear that the United States was not particularly constrained in its ability to apply bilateral tariffs; it just wisely chose not to.

What about China’s willingness to follow WTO rules? The United States has filed 12 WTO complaints that have resulted in rulings against China. In all of these cases, China has taken some action to comply. In none of them has there been an Article 22 suspension request, in which a party threatens trade sanctions due to a failure to comply. This indicates that the WTO has had success in holding China to its commitments.

The problem with the U.S. Trade Representative’s January 2018 report—in which it claimed that the United States had erred in letting China into the WTO—is that the commitments China made in 2001 do not cover all of the behaviors that are now of concern. Neither China’s WTO accession protocol nor the structure of the organization in 2001 was sufficient to ensure ideal Chinese economic behavior in the decades that followed. This is an indictment of the subsequent failure to pass new multilateral rules, however, rather than of the decision to admit China to the global system. China continues to pose economic policy challenges, but there is no indication these would be any easier to resolve were China unbound by WTO rules.